Jeff Dean and Gerry Black have been trading as a team for many years and have evolved along with their approach to trading options. The two launched the ITB Capital Management commodity pool in 2006 largely as a naked option writing strategy. It slowly has become more of a volatility value strategy that both buys and sells options on the S&P 500.
“Like most options sellers, we like volatility. It is just getting there, the rate of change of the volatility, that is what caused problems,” Dean says.
That rate of change caused some large drawdowns in the early days of the program, particularly in 2008, so the two added long option positions to hedge the risk of volatility spikes.
“When we are buying options it is 1) for risk management and 2) to capture incremental return based on where we perceive the movement is going to be over the next options cycle,” Dean says.
In addition to being both buyers and sellers of options, ITB looks at both technicals and fundamentals and uses discretion.
“Jeff and I are never off the desk, we are consistently moving positions,” Black says. “Most [option] sellers I’ve run into are very static, they sell both sides and wait. We are actively running it by the minute. If the risk-reward does not show that it is wise to keep that short position, we are going to move it or we are going to take a long position to counteract it.”
Black was introduced to Dean in the 1980s through another customer of the stock and futures brokerage James I. Black & Co., which his father launched in 1964. Black began to trade futures for himself and select customers. “I realized that Jeff and I traded very similarly. We very rarely disagreed on anything,” Black says. “When we decided to do the fund, I asked Jeff if he would retire from his [executive position at a building product firm] and go out on a venture with nothing. He said, ‘Yes,’ and we did it.”
While the program had immediate success both in terms of performance and building assets, it returned double-digits in each of its first two years and surpassed $50 million under management in six months. ITB had its best year in 2012, 30.5%, after making two significant changes.
After dropping more than 20% in July and August of 2011, ITB expanded its options buying.
“We [studied the drawdown] over and over to see what went wrong,” Dean says. “We figured out that we were lifting our [option buying] techniques too quickly and weren’t adjusting the short positions correctly, so we refined our program. It really turned out that we were taking a little upside off of the table.”
Most trades are now initiated as ratio spreads, but they can leg into butterflies as well and constantly adjust positions initiated at the beginning of each monthly option cycle.